Closed Coffin: Ending the Debate on "The End of Cheap Oil"
A commentary

Michael C. Lynch, Chief Energy Economist, DRI-WEFA, Inc.

September 2001

The past five years have seen a renewed debate on the issue of oil supply
and the possibility of a near-term peak in production and the concomitant
adverse economic consequences. A number of articles have stated that
discoveries over the past thirty years have been only a fraction of
consumption and that according to the Hubbert Curve method, world oil
production is close to a peak. What few people realize is that these
arguments are based entirely on a very particular technical argument, and
recent evidence has highlighted its fallacy.

The greatest attention was achieved by the March 1998 Scientific American
article "The End of Cheap Oil" by Jean Laherrere and Colin Campbell, largely
due to the extreme nature of their warning -- production peaking within a few
years -- and the alleged irrefutability of it. Subsequently, the authors have
been very active publicizing their views, including testimony to the British
House of Commons, speaking on BBC, and a number of other venues. A few
articles in the general press have been at least skeptical, but most of the
work refuting their arguments has been treated cautiously and quite a few
lay observers have taken their arguments as truth rather than speculation.
Critics of these arguments (like myself) have noted that these forecasts
have repeatedly proven to be incorrect, including those by Colin Campbell in
particular, who as early as 1989 predicted a peak in world oil production
for that year. Their rejoinder has been to note correctly that -- past
performance is not proof of future performance.

However, to the more explicit charge that their model is mis-specified, the
authors have made a more substantive response. The primary flaw in this
type of model is the assumption that recoverable petroleum resources are
fixed, when the amount of oil which can be recovered depends on both the
total amount of oil (a geological factor which is fixed), but also dynamic
variables like price, infrastructure, and technology. If the amount of
recoverable oil increases, as it has in the past, then the level predicted
for peak production must increase and the date pushed further into the
future. This has been observed many times from forecasters using this type
of model and relying on estimates of ultimately recoverable resources (URR).
But Campbell and Laherrere have asserted that their estimate of URR is both
highly accurate and stable because of their calculation using field size
estimates showing declining discovery size, moving towards an asymptote.
Since they have relied heavily on a privately held database, which is
unavailable to the general researcher, it has been difficult for critics to
respond to this specifically.

The reliance on discovery trends to estimate URR has received similar
criticism as the faulty URR estimates, namely that estimates of field size
tend to increase over time with improved recovery methods, better
examination of seismic data, infill drilling, and so forth. This means that
the size of the recent fields is being underestimated compared to older
fields, exaggerating the nearness of the asymptote and understating its
size. An analogy would be to plant trees over twenty years and note that
the size of the most recently planted trees was shrinking, and concluding
that timber resources would become scarce.
Campbell and Laherrere have argued in response that increases in recovery at
existing fields are artifacts of accounting rules (which is only partly
true) and that they have overcome this flaw by their reliance on a database
whose reserve estimates do not suffer from this bias. Since the estimate of
ultimately recoverable resources is based on their field size estimates, the
question of field growth becomes central to the entire debate. And their
primary line of defense has been that their critics lack access to this
database.

Last year, the publication of the USGS's World Petroleum Assessment provided
one particularly sharp nail in the coffin of this argument, when (among
other things) they examined the development of field size estimates over
time using the same proprietary database which Campbell and Laherrere relied
on, and concluded that reserve growth from existing fields, although
uncertain, would be substantial. They published a mean estimate of 612
billion barrels (nearly 30 years of current consumption), significantly
increasing their estimate of the world's URR.

But the final nails seem to be located in this summer's little-noticed
announcement by IHS Energy -- the firm whose field database Campbell and
Laherrere have utilized -- of estimated discoveries. According to the firm,
discoveries in 2000 were 14.3 billion barrels in 2000, a 10% drop from 1999.
This has two interesting implications: first, discoveries have risen
sharply the past two years, refuting the statement that poor geology, rather
than lack of access to the most prospective areas in OPEC, has kept
discoveries low for the past three decades. But also, this implies that
discoveries in the past two years have amounted to nearly 20% of the total
undiscovered oil which Campbell and Laherrere argued remain!
Undoubtedly they -- and others -- will argue that this is due to the firm's
inclusion of deepwater reserves, which they are not considering, and that is
a factor in the recent robustness of discoveries. However, the primary
element behind the greater discovery rates has been the finding of two new
supergiant fields in Kazakhstan and Iran. Again, this refutes the argument
that discoveries have been relatively low in recent decades due to
geological scarcity and supports the optimists' arguments that the lower
discoveries are partly due to reduced drilling in the Middle East after the
1970s nationalizations.

And the most crucial fact is actually IHS Energy's reference to earlier
discoveries. They have revised their estimates of remaining reserves at
end -- 1991 to 1200 billion barrels, implying that oil discovered to that date
was close to 1900 billion barrels (since about 675 billion barrels had been
produced). This despite the Campbell/Laherrere argument that their data
does not experience revisions due to their reliance on P50 (50% probability)
estimates, compared to P90 (90% probability) used in the US and by many US
oil companies. While there remain uncertainties about future field reserve
growth versus historical growth, it becomes clear that it is still
continuing and the arguments that they had corrected for the problem are
fallacious at best.

Indeed, the sheer size of the revisions are themselves significant.
Although I lack access to historical IHS Energy estimates, Campbell and
Laherrere had placed "back-dated" reserves in the early 1990s at barely over
1000 billion barrels in their 1998 article. This implies (to be generous)
an increase due to revisions of 150 billion barrels or more in a mere five
years: 30% more than actual consumption! It means (as I have repeatedly
argued) that their discovery trend curves are misleading, because the more
recent numbers were understated, and in the future will likely be too low
again. The method they use is flawed because of this definitional mistake.

Note also that the amount discovered to 1991 (which would include only
minimal deepwater discoveries) is actually significantly greater than the
two now estimate would ever be discovered. In fact, IHS Energy puts
current reserves at 1100 billion barrels, which, with past production,
yields almost 2000 billion barrels, about 10% or 200 billion barrels over
the 1800 billion barrels which the duo have confidently predicted would be
the ultimate total. Presumably we can expect them to make yet another
upwards revision in their URR estimate. Indeed, despite fears of declining
discoveries, estimated recoverable resources -- even by pessimists -- have grown
faster than consumption. This can hardly be argued as a sign of resource
scarcity.

There are many other arguments that have made up part of this debate, and I
have tried to deal with each of them in the articles cited below, as well as
further forthcoming work. But while we need be concerned about quite a
number of issues related to petroleum supply -- depletion, change in reserve
growth, concentration of production in politically stable areas -- a possible
near-term peak in production (conventional or otherwise) is not one of them.
It takes a lot of nails to close a coffin, but the size and quality of these
will hopefully ensure that it remains closed.

"The Analysis and Forecasting of Petroleum Supply: Sources of Error and
Bias," in Energy Watchers VII, ed. by Dorothea H. El Mallakh, International
Research Center for Energy and Economic Development, 1996.